You know the moment in a horror movie when the characters are going about their business and nothing bad has happened to them yet, but there seem to be ominous signs everywhere that only you, the viewer, notice?
That’s what watching global financial markets the last couple of weeks has felt like.
In a lot of ways, nothing looks particularly wrong. The S&P 500 was down 0.7 percent Wednesday, tumbling for a second consecutive session, but over all is down only about 5.5 percent from its early May high. The unemployment rate is at a five-decade low. With major companies nearly done releasing their first-quarter results, 76 percent had results above expectations.
But along the way, global bond prices have soared, driving interest rates down sharply. Ten-year Treasury bonds are yielding only 2.26 percent as of Wednesday’s market close, down nearly a full percentage point since November 2018. The outlook for inflation in the years ahead is falling as well, as are the prices of oil and other commodities.
Most significant, the fall in longer-term bond yields has not been matched by a fall in shorter-term rates. For example, a 30-day Treasury bill is yielding 2.35 percent — meaning you can earn more on your money tying it up for a month risk-free than you can tying it up for a full decade.
This is not normal. It is called an inverted yield curve, and historically it has been viewed as a sign of a recession in the offing. At a minimum, it indicates that bond investors believe the Federal Reserve will soon need to cut interest rates — in effect, that it overshot with those four rate increases last year.
There is also a soft underbelly to some of the good economic data of late. Orders for capital goods like business equipment fell 0.9 percent in April, suggesting companies may not be in an expansionary mood. The Institute for Supply Management’s index of activity at manufacturing companies fell sharply in the most recent reading, though it remained in expansion territory.
The financial markets don’t always tell a tidy little story about what is happening, but here’s a theory about reconciling the apparent calm in the economy with the many worrying signs.
The breakdown in trade negotiations with China and the imposition of tariffs on Chinese goods are part of the story, but only a part.
Businesses have weathered escalating tariffs for two years now, and while tariffs can be costly, they do not need to wreck the economy. After all, prices for products fluctuate for all sorts of reasons, and market economies are pretty good at adjusting.